Real Effects of Bank Concentration and Competition in Europe

European Union (EU) countries have experienced significant deregulation affecting the banking industry, a process culminated in 1993 with the implementation of the Second Banking Coordination Directive. Prior to 1993, cross-border expansions were heavily constrained. Under the current regime, in contrast, banks from EU countries are allowed to branch freely into other EU countries. By removing substantial barriers to entry, the new legislation aimed at generating significant improvements in the competitive conditions of financial markets. However, concurrently to the process of deregulation, European banking industries have also experienced a significant process of consolidation and increase in market concentration. Exploiting such significant innovations affecting the banking industries of EU countries, this paper explores the effect of changes in banking market structure on the market structure of non-financial industries. It asks whether bank competition promotes the formation of industries constituted by a few, large firms, or rather, whether it facilitates the continuous entry of new firms, thus maintaining unconcentrated market structures across industries. Theoretical arguments could be made to support either hypothetical scenario. Empirical evidence is derived from a panel of manufacturing industries in 29 OECD countries, both EU and non-EU members, adopting a methodology that allows controlling for other determinants of industry market structure common across industries, across countries or related to time passing. The evidence suggests that the overall process of enhanced competition in EU banking markets has lead to less concentrated markets in nonfinancial sectors. JEL Classification Codes: L2, G2, G3 * The views expressed herein are those of the authors and not necessarily those of the Federal Reserve Bank of Chicago or the Federal Reserve System. I thank participants to the World Bank Conference on Bank Concentration and Competition and especially Andy Winton for comments and suggestions.